online advertising

There is a widely held assumption that new business models will continue to emerge online – that statements like “how will Twitter ever make money?” will look as silly in 10 years as similar statements made 10 years ago about Google look now.

There is no question that, if they wanted to, Twitter could make tens of millions of dollars tomorrow, by, say, running ads or by licensing data feeds. The big question is whether Twitter and other social media sites will figure out how to make Google-scale money and not just Facebook-scale money. Google and Facebook get (ballpark) the same number of monthly visits to their sites. Facebook made hundreds of millions of dollars last year and reportedly lost money. Google made over $22B last year with huge profit margins.

The optimistic view (which I tend to hold myself) says that where people spend time, money will follow. If people are spending all their time on Facebook and Twitter, the Proctor and Gamble’s of the world will eventually find an effective way to shift the bulk of their ad spending online. The tacit assumption in this view is that the next 15 years will see as much business model innovation as the last 15 years.

On the other hand, what if we are mostly done creating big new business models for the web? History suggests that business model innovation is rapid right after the advent of a new medium and then slows down considerably. If indeed it is slowing down, social media could end up like instant messaging – incredibly popular but basically lousy at monetizing.

But how will Google ever make money? There’s the rub. The company’s adamant refusal to use banner or other graphical ads eliminates what is the most lucrative income stream for rival search engines. Although Google does have other revenue sources, such as licensing and text-based advertisements, the privately held company’s business remains limited compared with its competitors’.

We now know what people were missing back then and why Google generates such massive revenues from advertising. The lesson is that the RPMs* of online ads are directly proportional to the degree** to which the user has purchasing intent. This is why when you search Google for “cameras” you’ll see ads everywhere (and those advertisers are paying high CPCs), but when you search for “Abraham Lincoln’s birthday” Google doesn’t even bother to show ads at all.

This is also why Nextag will have revenues this year in the ballpark of Facebook’s revenues, even though Nextag gets a fraction of the visits:

When people talk about search being a great business model (for, say, Twitter), they should distinguish between search with puchasing intent, which is an incredible business model, and search without purchasing intent, which is a terrible one.

This may change as brand advertising moves to the web. But for now web advertising is dominated by “direct response” ads, and those are all about purchasing intent.

But how will Google ever make money? There’s the rub. The company’s adamant refusal to use banner or other graphical ads eliminates what is the most lucrative income stream for rival search engines. Although Google does have other revenue sources, such as licensing and text-based advertisements, the privately held company’s business remains limited compared with its competitors’.